Fundera Whiteboard Series: APR vs Interest Rate

When you apply for a small business loan — you’ll often be quoted the cost of borrowing the sum as an interest rate or an annual percentage rate (APR). But what’s the difference?

While the two terms are similar, there are a few key distinctions.

An interest rate is a cost of borrowing money. It’s quoted as a percent—but it does not include any additional fees that might be included in the cost of a loan.

An annual percentage rate (or APR) is the annual cost of a loan to a borrower. It’s also quoted as percent—but it includes additional fees like origination fees, documentation fees, and other fees.

Let’s See the Difference in Action.

Let’s say you get 2 loan offers—Offer A and Offer B.

Offer A is for a $100,000 loan over 2 years with a 12% interest rate & a 2% origination fee
Offer B is for a $100,000 loan over 2 years with 10% interest rate & a 5% origination fee

Which offer should you take?

You might have guessed offer B—it has a lower interest rate after all! But let’s take a closer look.

After factoring in the 2% origination fee, we see that the APR for offer A is 14.05%
So for offer A, you’ll pay $14976.33 to borrow the $100,000 principal.

After considering the 5% origination fee, we see that the APR for offer B is 15.18%,
So for offer B, you’ll pay $15747.82 to borrow the $100,000 principal.

So after considering for the origination fees, you can see Offer B is actually a more expensive loan!

You’ll save $771.49 over the 2-year loan (write out) by taking Offer A over Offer B!

With that — you could buy a cup of coffee every day for a year!
Or round-trip tickets to Paris!
Or a brand new computer for your office!

So be sure to ask for the APR on each loan you apply for—not just the interest rate.

In short, APR considers origination fees, documentation fees, the loan repayment terms, and more to present the most accurate representation of what you’ll actually pay back a financing company.

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from Fundera Ledger https://www.fundera.com/blog/fundera-whiteboard-series-apr-vs-interest-rate